7 Reasons Why The US Canabis Industry Is About To Be "Rocked"

As DataTrek's Nicholas Colas reminds us, recreational marijuana sales become legal in California starting on New Year’s Day 2018. Given that one in eight Americans live in the state, this move will have major implications for the entire US legal cannabis industry.

So, to address any pent up investor questions, Colas has put together a list of 7 major points about the rollout in terms of regulations, taxes, revenue estimates, potential banking solutions, and employment consequences.

Here are the details:

Dispensaries in California can finally start selling recreational cannabis on January 1st after voters passed Proposition 64 in November 2016. Even though some other states already allow legal retail cannabis (like Colorado and Washington), this is a game changer for the industry as one in eight Americans live in California. The state will have to go through a transition period, as recreational marijuana sales merge with the existing medical marijuana market. The latter is nearly two decades old and will also face stricter regulations. Nevertheless, the new market should help California’s economy and budget deficit.

Here are 7 major points we think you should know for the rollout:

#1 Who can buy and how much: Consumers have to be 21 or older to buy retail marijuana, can possess up to 28.5 grams of flower or 8 grams of cannabis concentrate, and can grow up to six plants. As in other states where retail cannabis is legal, people cannot smoke in public, only in a private home or a business licensed for on-site smoking.

#2 Number of licenses issued thus far: California’s Bureau of Cannabis Control has given some temporary licenses to retailers, distributors, microbusinesses and testing laboratories through its online licensing system. As of the Bureau’s press release on December 14th, it has issued just 20 licenses, but said it plans to issue “many more” before the 1st. Not only do dispensaries need a license, but also approval from local authorities. Here is the press release.

Retail cannabis won’t be available everywhere starting on the 1st of next month, however. It will take longer in some cities and counties, while some have banned cannabis stores. Leafly put together a helpful list on the status of California’s major cities. Although stores in San Diego, San Jose and Sacramento are expected to open on New Year’s, those in Los Angeles and San Francisco are delayed. LA will become the biggest US city with legal recreational marijuana sales. Here’s the list.

#3 Tax revenue/rates and the black market: The independent California Legislative Analyst’s Office projects that tax revenue could range from the “high hundreds of millions of dollars to over $1 billion annually”. This will help California’s $3.3 billion revenue shortfall and will fund “drug research, treatment, and enforcement, health and safety grants addressing marijuana, youth programs, and preventing environmental damage resulting from illegal marijuana production.” Here’s a link with the breakdown.

Effective tax rates on retail marijuana could run as high as 45% when taking into account state and local taxes, according to Fitch Ratings. This includes a “15% state excise tax, state cultivation taxes of $9.25 per ounce for cannabis flowers ($2.75 per ounce for leaves), and state and local sales taxes ranging from 7.75% to 9.75%. By comparison, Oregon taxes nonmedical cannabis at approximately 20% and Alaskan taxes range from 10% to 20%.”

Fitch’s report highlighted concerns that such high taxes will allow black market prices to remain competitive. Colorado, Washington and Oregon all lowered their marijuana taxes after legalizing the drug to challenge the black market, for example. Here’s a link to the report.

#4 Size of the market: California’s legal marijuana market could reach over $5 billion, according to a state-sponsored study by the University of California Agricultural Issues Center. As of November, total annual sales of medical marijuana were $2 billion and represented about 25% of total marijuana sales, while the balance was illegal sales worth $5.7 billion. The study expects that allowing legal recreational marijuana sales will lower medical marijuana sales to $600 million since adults will no longer have to visit a doctor and pay for a medical card.

The study also found, however, that 29% of all marijuana consumers may stay in the illegal market to dodge taxes. They think legal retail use will account for 61.5% of the overall market, while illegal purchases will make up about 29.5% of the market and 9% for medical purchases.

Moreover, the report estimated that the new market could create over 1,200 jobs for testing and handling legal marijuana. The new market will also be a boon to tourism. Their comp: estimates show tourists spend $7.2 billion a year on wine in California. Source: Los Angeles Times

#5 Supply versus demand: We would not be surprised to see demand outpace supply after opening, as demonstrated by early sales of legal recreational marijuana in Colorado and Washington. When Las Vegas dispensaries began selling retail cannabis this past July, they started running out after just a few days. California’s potential problem could be compounded by the state’s wildfires, which have damaged or wiped out many grows in Northern California, where marijuana is mostly produced in the US. This could lead to high prices, but as demonstrated in Colorado and Washington these dissipate over time as the market adjusts and matures.

#6 Relationship with banks: Given that marijuana is still illegal Federally, many banks do not accept marijuana-related business for fear of legal headaches or even losing their charter. Some banks and credit unions have accepted the risk in states like Colorado, but the legal industry mostly conducts business in cash. This has posed serious security risks related to storing and transporting money, and this is an especially relevant problem in California where revenue projections grow to $7 billion annually by 2020.

Therefore, California officials have been meeting with banks and credit unions with the hopes of creating a network of financial institutions that will bank with marijuana businesses and ensure special compliance. Their idea is to pick a central correspondent bank and set up a clearinghouse that provides strict oversight. Some banks have expressed interest, but others still think it is too risky. Source: Los Angeles Times

#7 Employment and marijuana-related crime: Employers can still enforce anti-drug policies in California since marijuana is illegal on the Federal level. On the flip side, hundreds of thousands of people could have their drug convictions - from small infractions to serious crimes - cleared or reduced due to a provision in the bill. This will help individuals compete for better work opportunities, especially low-income minorities. The California Judicial Council shows at least 4,500 people have filed petitions on this point as of September. Source: The Washington Post

In sum, California will serve as an important case study in moving the needle on national marijuana legalization if all goes well in the US’s largest state. Many investors avoid the space because it is federally illegal. Success in California could portend faster legalization elsewhere and open up legal investment opportunities in a relatively new multi-billion dollar industry. California will also help investors ascertain legal marijuana’s impact on other industries, such as beer, liquor and pharmaceutical sales. Only time will tell, we will keep you updated in the meantime!